The purpose of this Market Call section is to
educate readers in technical analysis patterns and indicators. As with all investment
information, you need to research information and consult your financial advisor before
initiating any strategies that are contained in Market Call.
Also, you must realize that as with all trading strategies,
opinions can change quickly depending on market conditions and developments.
This column tries to present historical examples, potential set
ups, and examples of entry and exit strategies.
Support and Resistance and Breakouts
Think of security prices as a war. It is a battle between a bull (the
buyer) and a bear (the seller). The bulls push prices higher and the bears
push prices lower. A buyer that feels an area has good value will buy at
that level. The seller that feels that a stock has reached fair value will
sell at that higher fair value price. The direction prices actually move
reveals that someone has won the battle.
Remember when a trade takes place, a buyer and seller agreed to a price.
There was a buyer and a seller involved in the transaction. The buyer feels
the stock will go up. The seller wants to move on to another stock that he
may feel will appreciate faster.
Support levels are the price where the majority of traders feel the value
is a good buy.
Resistance is the level in which the majority of traders feel prices will
move lower.
When the majority of traders and investors change their expectations, these
support and resistance areas get violated and a new trend may be beginning.
This can occur due to changes in expectation of earnings, new product
development, change of personnel, cut backs or expansions.
One interesting pattern that traders see after a breakout is that the stock
or index retraces a part of the initial move by about 50%. If the 50%
retracement does not hold, the stock or index can still be in a trend if
the previous breakout resistance holds.
Let look at setup forming for a breakout up or down in
Foundry Networks (NASDAQ: FDRY).
After a down move from January 26, 2000 at a high of 157, FDRY moved down
to 120 before attempting to rally again.
In the rally from the low of 120, FDRY retraced about 50% of the down move
to form a congestion area around 130 to 137.
Over the past couple of trading sessions, FDRY volatility has decreased to
a tight range.
FDRY is a stock that will probably not continue to trade in a 7 point
range. The stock will either breakout to the up side or breakdown and
probably break the 120 low of last week.
Who will win this battle? The bulls or the bears?
I am going to sit back and watch and jump on the winner of battle between
buyers and sellers.
A trader gets ready to play the breakout.
This is done by executing on a professional trading platform at the
breakout or by placing stop orders at the breakout points.
I would Buy FRDY at 137 � Buy Stop or Sell Short at 129 5/8 Sell Short Stop.
The stock should continue to move in the direction of the break. It should
come back near the other side of the congestion area.
Upon entry in either direction, I would place my stop at 134. The stock
should not retrace to this mid area again.
Try to visualize when a breakout works and when it does not work. I hope
this one will show you a good example.
